Record Deficit Shows Dollar's Half Empty Glass

The US trade deficit rose 4% in October to a record $68.9 billion from 66.0
billion in September. Imports grew 2.7% to $176.4 bln -- the highest percentage
rise since Oct 04 -- while exports rose 1.7% to $107.5 billion.

Despite the aggregate 15% in crude oil prices in September and October, imports
of petroleum products jumped 7.8% to $25.8 bln, while imports of crude oil
rebounded by 7% to $17.1 billion, helped by a 9% jump in volume, following
the reopening of the ports in the South East - particularly New Orleans. Of
significance is the increased in the share of petroleum imports as a percentage
of total imports to a record 14%. In addition, the increase in petroleum imports
accounted for 40% of the increase in total imports.

The October month-to-month US bilateral trade gap deteriorated to new records
across with the board. The trade deficit with the China edged up 2.0% to a
$20.5 bln from September, while soaring 22% from October 2004.The deficit with
Japan rose 15% to $7.4 bln while the year-on-year increased 16%. The trade
gap with the UK and the Eurozone rose 29% and 21% to $1.6 bln and $8.8 bln
respectively. The trade gap with Canada and Mexico rose 10% and 11% to $8.1
bln and $4.8 bln respectively. The US trade deficit with OPEC rose 4% to $9.4
bln, a 32% increase from a year ago.

Today's trade report raises the question whether the US deficit is showing
its periodic increase after a 10-12 month consolidation around the $55-58 billion
mark. The monthly deficit figures have a way of consolidating in a range for
6-12 months before a given catalyst lifts it up to the next range. Since Jan
2002, this catalyst has been the increase in oil prices. We noted last month
that the prospects of a retreat back to the low $60s are primarily dependent
on the extent of aircraft exports and crude oil imports (rather than solely
petroleum). But today's report was largely a function of high oil imports (despite
falling oil prices) and for autos and electronics. The 12% jump the September
trade deficit was largely triggered by an unexpectedly large 2.4% drop in exports.
In the October report, exports did pick up 1.7% but it was not enough to keep
up with the 2.7% increase in imports, which was the highest in 6 months.

The US external imbalance will reemerge later this week amid the Friday release
of the Q3 current account deficit, which we expect to push up to $198 bln from
$195.7 bln in Q2, but less than the consensus forecasts of $203 bln. That is
because the trade gap is seen temporarily stabilizing due to a boost in unilateral
transfers from insurance and reinsurance claims received by US companies from
foreign insurance. The unilateral account should also be boosted by donations
from abroad for hurricane relief.

The renewed acceleration in the US trade deficit and the looming conclusion
of the Fed's tightening campaign both conspire to stand in the way of the
dollar's yield-based rally, and should accelerate selling momentum in the
currency in the short-term.

Reiterating our interpretation of yesterday's FOMC statement; the door
does remain open for further rate hikes. But what is different this
time is the lack of conviction by the Fed for further rate hikes and the
removal of positive language, which does not make a January rate hike a 100%
certainty as was the case in each of the past 13 meetings. In other words,
the language was changed in a way that increases the Uncertainty going into
the next meetings, unlike was the case in previous meetings. Said differently,
when looking at the FOMC statement, we always saw an ensuing rate hike. Today's
altered language makes way for the possibility of a rate hike as well as
for a pause.

In the shorter-term, we stick with our year-end EURUSD forecast of $1.1950
before a renewed push towards the $1.2300 by mid Q1. We see a 60% chance for
a January 25-bp rate hike to 4.50%, that will be followed by a rate cut in
Q4, bringing down the Fed funds rate back to 4.25% by end of 2006. Our year-end
USDJPY forecast stands at 117, while faster selling is expected to stabilize
at 113 as the unwinding of the carry trades is accelerated, especially as Treasury-bound
Japanese institutions begin to hedge their dollar longs.

Forexnews.com was created in January 1999 and is committed
to enhancing public knowledge about the foreign exchange markets. The site
offers the latest insights and analysis in currency markets, freely available
to traders and researchers alike.

Forexnews.coms unique combination of fundamentals and technicals,
along with its pioneering approach to the FX market, gives it the information
edge. Forexnews.com is the longest-standing on-line source of credible, timely
and accurate information in FX world.

Forexnews.coms staff of analysts has gained recognition
from highly placed media sources, both inside and outside of the US. Its analysts
are regularly cited in Bloomberg TV, Reuters TV, The Wall Street Journal, Barrons,
The Financial Times and Investors Business Daily.